In Perth, many family businesses have historically utilized trusts due to the tax benefits these structures provided. However, as tax laws evolve and tax advice from Perth accountants adapts, operating a business through a trust has become increasingly complex and less advantageous.
Why Trusts May Pose Challenges for Business Operations
While trusts can offer advantages beyond tax savings, they also present several challenges when used to run a business. Key difficulties include:
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Employee Incentives: Implementing employee incentive programs within a discretionary trust can be difficult. Although trusts offer tax-efficient flexibility, their discretionary nature makes it hard to grant team members fixed entitlements to profits.
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Company Tax Rates: Trusts do not qualify for the lower tax rates available to companies on business income. While profits can be allocated to a company to help it qualify as a base-rate entity, tax laws require these profits to be distributed.
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Working Capital: Trusts are required to distribute all profits to beneficiaries, making it challenging to retain working capital for reinvestment. To reinvest profits, unitholders or beneficiaries must agree to defer their payment rights and convert them into loans.
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Accounting Ratios: A trust’s lack of net equity complicates the calculation of many accounting ratios that banks use to assess financial health. Although cloud accounting software and a CFO’s expertise can mitigate this issue, many Perth family businesses prefer simpler and more straightforward financial reporting.
Tax Options for Transitioning from a Trust to a Company
As businesses grow, some find that their trust structure is no longer suitable, leading to the need for restructuring into a company. This is particularly common for larger family businesses transitioning to a corporate structure, driven by factors such as:
- Aligning with long-term business strategies and succession plans.
- Strengthening relationships with customers.
- Meeting family and financial objectives.
- Pursuing international expansion opportunities.
- Accessing government grants and company tax rates.
- Addressing working capital requirements.
Restructuring into a company can also offer additional tax benefits, such as forming a tax-consolidated group, which allows for single-entity tax returns. The Australian Taxation Office (ATO) recognizes the legitimacy of such restructuring efforts.
Capital Gains Tax (CGT) Considerations
Restructuring from a trust to a company often triggers Capital Gains Tax (CGT), especially when the market value of the business’s goodwill exceeds the cost base of its assets. However, a CGT rollover can defer these liabilities. The appropriate rollover option depends on the business’s specific needs and objectives.
Available Capital Gains Tax Rollovers
Several CGT rollover options exist for Perth family businesses transitioning from a trust to a company. These options can be used individually, sequentially, or creatively combined with other tax strategies:
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Subdivision 122-A – Transfer from a Trust to a Fully-Owned Company: This option allows trustees to transfer business assets to a newly formed company that is fully owned by the existing trust. This enables the company to retain working capital, while future profits can be distributed at the discretion of the directors.
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Subdivision 124-N – Transfer of Assets from a Trust to a Company: This involves transferring all assets from a fixed trust to a company, effectively replacing the trust. The trust owners receive company shares in exchange for the business assets, and the business continues its operations as a company.
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Section 328-G – Small Business Restructure Rollover: For small businesses, this rollover allows assets to be transferred to a company with CGT deferred. This results in a structure similar to that achieved through a Subdivision 124-N rollover.
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Subdivision 615 – Conversion of Units in a Unit Trust to Shares in a Company: This option involves inserting a company between the unit trust and its unitholders, converting units into company shares. The business continues operating within the trust structure, but profits are now retained within the company.
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Small Business Capital Gains Tax Concessions: For businesses that qualify as small entities, assets can be sold to a company with potential CGT concessions, including:
- 15-Year Exemption
- 50% Active Asset Reduction
- Retirement Exemption
- Small Business Rollover Relief
These concessions also offer opportunities to increase superannuation funds for business owners in Perth.
Utilizing Capital Gains Tax Rollovers
There are several CGT rollover options available to help transition to a more suitable business structure. However, it's important to note that the ATO closely examines these rollovers, especially for significant transactions. For high-profile or financially substantial restructures, obtaining a pre-transaction private ruling from the ATO is recommended.
Given these complexities, it is essential to seek professional tax advice and maintain thorough documentation to support decisions and actions during a rollover or restructuring. This ensures that your business and personal interests are protected while selecting the most beneficial option.
Every business is unique, and while the CGT rollover options discussed provide valuable insights, it is also crucial to consider other taxes, such as income tax, GST, and stamp duty, during restructuring.
At Westcourt, we are uniquely positioned to support Perth family businesses with their restructuring needs. Our exclusive focus on family businesses, access to a global network of independent advisors, transparent pricing, and deep expertise in taxation and business advice set us apart. If you need assistance with restructuring your family business or trust, contact us today.